The Coastal Cash Generating Machine
I have perhaps underwritten about Coastal Energy given the size of the position I own in the stock. That is mainly because the Coastal Energy Investors Village board provides such great information about the company. It leaves me thinking – what is there left to say?
Nevertheless, sometimes it is worth reevaluating exactly what is fair value for a company, and that is what I want to try to do in this post. For an oil company, the book fair value can be estimated based on reserves, based on a cash flow multiple or based on a more detailed discounted cash flow analysis. The problem with all of these methods is that the lifeblood of any oil stock (not the company but the stock) is its potential to find more oil than what the market is currently willing to price in. Keep that in mind when looking at some of the valuation metrics below. The value the market is willing to assign to Coastal is bound to vary significantly from these book estimates depending on the market expectations of what might be lying in wait to be found. These days it also seems to depend on what happens to pop out of Sarkozy’s or Merkel’s mouth on any given day, but that’s another story.
Coastal is becoming a cash generating machine.
The chart below illustrates how up to this point Coastal, unlike so many of the domestic oil and gas juniors, is not running on a financing treadmill, but has been able to instead fully fund its operations from cash produced.
Its a little difficult to determine exactly when all the wells were drilled but based on the information provided in the MD&A I would estimate the following number of wells were drilled in the last 3 quarters. This does not included recompletions.
Now in the first three quarters about $5M in total CAPEX per well drilled was spent, however I am not trying to contend that this is how much it will cost to drill wells going forward. Some of those costs have been starting up the Bua Ban field (17 wells have been drilled at Bua Ban north in Q2 and Q3). Vertical wells drilled into the Miocene cost $1.5-$2M. The recent horizontal well that Coastal drilled (the Bua Ban North A-10) cost $3M. The point here is that further development of the existing found fields should require capex that is less than it was last quarter ($45M). Capex requirements in the $30M to $40M range going forward seems reasonable, absent another discovery that requires start-up capex but of course that would be a good thing in its own right.
Because of the significant growth occuring from the wells drilled at Bua Ban North, looking backwards to the historical cash flow of the company is of limited value. What is required is a forward looking estimate of cash flow based on current and expected production. Below I have estimated cash flow for 3 scenarios. Current estimated production at the end of the 3rd quarter, plus two increased production scenarios. Capex estimates for all of the scenarios are based on Coastal’s own estimate of $250M for 2012 ($62.5M per quarter).
The above assumes fully taxed cash flow for the entire estimate. This is probably not exactly true. Coastal is going to have to start paying more taxes at some point in 2012. But not right away. When they do they will pay the following taxes:
- Royalty that is prorated to the production level. Coastal has said that at 20,000bbl/d offshore they expect a royalty payment of 10%
- 50% income tax on profits. Now this number is a bit misleading because according to Coastal’s explanation, the tax includes the deduction of all capital expenditures as they are incurred. In their November presentation Coastal presented the following table of the effective tax rate at various oil prices, and 20,000bbl/d of offshore production:
One other thing to note about this table is that offshore EBITDAX of $596M at $100/bbl selling price implies a significant drop in operating costs. I based my cash flow estimates on $29/bbl operating costs, which is consistent with the first 3 quarters. For the same scenario (ie. $100/bbl oil and 20,000bbl/d of offshore production) my EBITDAX is significantly lower. EBITDAX is basically the revenues after royalty, less the production expense and the cash G&A expense (it excludes stock option expense). There isn’t that much to it. The only way I can get the same EBITDAX as they have in the above table is if I drop operating expenses to about $10/bbl.
I also cannot get the tax numbers to quite line up the way Coastal has them stated in their presentation. In the above snippit Coastal stated that the taxes are expressed as a percentage of EBITDAX. I have to wonder if they didn’t mean revenue or revenue after royalty.
But even with my lower and perhaps more conservative estimate, Coastal is still generating a lot of cash.